Definition of Inventory Turns
Inventory Turns are the number of times a firm's investment in inventory is recouped during an accounting period. Normally, a high number indicates a greater sales efficiency and a lower risk of loss through un-saleable stock. However, an inventory turnover that is out of proportion to industry norms may suggest losses due to shortages and poor customer-service.
The inventory turnover ratio measures a company's efficiency in managing its investment in inventory. This ratio shows the number of times the average inventory balance is sold during a reporting period. It indicates how quickly inventory is sold. The more frequently a business is able to sell, or turn over, its inventory, the lower its investment in inventory must be for a given level of sales. The ratio is computed by dividing the period's Cost of Goods Sold by the Average Inventory balance. A relatively high ratio, compared to a competitor, usually is desirable. A high ratio indicates comparative strength, perhaps caused by a successful advertising campaign. However, it might also be caused by a relatively low inventory level, which could mean either very efficient inventory management or stock-outs and lost sales in the future. On the other hand, a relatively low ratio, or a decrease in the ratio over time, usually is perceived to be unfavorable. Too much capital may be tied up in inventory. A relatively low ratio may result from overstocking, the presence of obsolete items, or poor marketing and sales efforts.